Tech Mahindra’s Q1FY18 revenue at $1,138 million, up 0.6% q-o-q, down 0.6% CC and margin at 12.7% were ahead of Street’s estimates on account of improvement in efficiency and LCC. Key quarter highlights were: flat organic growth in enterprise business; 70bps q-o-q margin improvement in spite of currency & visa headwinds; and strong pipeline in digital business —up 30% y-o-y—and 2.5x increase in deal sizes. Management reiterated confidence in its telecom/enterprise businesses as well as margin improvement going forward with LCC stabilising, digital business gaining traction and improvement in margin aided by higher utilisation, automation & non·recurrence of LCC·related expenses. Maintain ‘buy’ with revised TP of Rs 546, Rs 563 earlier.
With LCC stabilising and traction in digital business, management sounded confident on all business verticals. It also highlighted that while deal size in digital business has jumped 2.5x versus Q1FY17, the pipeline has catapulted 30% y-o-y. We believe, LCC, after almost 50% dip, will stabilise now, although it is likely to impact FY18 growth. EBITDA margin expanded 70bps q-o-q to 12.7% led by efficiency improvement, headcount down 1.5% q-o-q and sub·contracting costs down 6.3% q-o-q, and some recovery in LCC’s margin. Management believes, utilisation gains will reflect from Q2FY18, while other margin levers, including LCC’ margins, have further upsides. This implies that the margin trajectory will be on the upmove given that cost headwinds are largely behind.
TECHM’s margin surprise and positive commentary are in line with our expectations, and we expect them to reflect in coming quarters’ numbers. We believe, on account of restructuring, LCC’s revenue has halved, since acquisition, implying that the worst revenue and margin has been factored in current numbers.